Job trouble? Wave of rehiring after economy reopened to fade in July after viral spiral

The engine of the U.S. economy may have gotten clogged again — no thanks to the recent acceleration in coronavirus cases. That’s bad news for Americans hoping to return to their old jobs.

Just how much damage has been done will become more evident this week, especially from the U.S. employment report for July due next Friday. The number of jobs regained last month is unlikely to match the huge increases in May and June that totaled a combined 7.5 million.

Wall Street

economists predict the U.S. added about 1.5 million jobs in July.

Even that estimate may be inflated though by seasonal changes in educational employment at the state and local level, Morgan Stanley contends. Private-sector jobs could increase by less than one million, the investment bank calculated.

See: MarketWatch Economic Calendar

Whatever the case, a much smaller increase in hiring or rehiring in July would bode ill for the U.S. recovery from the coronavirus pandemic. The government last week reported that gross domestic product sank a whopping 32.9% in the second quarter on an annualized basis, the biggest decline since World War Two.

Read: Economy suffers titanic 32.9% plunge in 2nd quarter, points to drawn-out recovery

Also:‘A massive welfare economy’ – federal aid prevents even steeper GDP collapse

“The big question hovering over next week’s employment report is whether the two-month surge in job gains stopped in July,” says David Donabedian, chief investment officer of CIBC Private Wealth Management. He thinks that’s exactly what happened.

It will be hard for the economy to make up a lot of lost ground in the third quarter unless hiring snaps back even faster.

See:MarketWatch Coronavirus Recovery Tracker

The U.S. lost a record 22 million jobs in March and April, according to Labor Department data. So far the economy has recovered less than one-third of those jobs.

The weekly tally of jobless claims, meanwhile, showed an even higher 30 million unemployed people were collecting benefits as of mid-July, representing about one in five Americans who said they were working before the pandemic, according to a Labor Department survey of households.

Robert Frick, corporate economist at Navy Federal Credit Union, said many people who expect to return to work are going to find they have no jobs or businesses to which they can return, a “grim reminder” of how much long-term damage the pandemic has caused.

“In the long run we are going to see a sobering slowdown in job growth,” he said.

The still-high level of unemployment, the viral spiral, and the uncertainty over whether Washington will provide more financial aid has understandably made Americans feel less confidence. On Friday Congressional lawmakers were still at odds on the next relief package with many benefits set to expire at the end of July.

A variety of measures that monitor consumer attitudes show a clear deterioration in July that’s likely to bleed over into August. That will make a recovery even harder.

Read:Consumer confidence wanes in July and points to rockier economic recovery

And:Consumer sentiment falls as coronavirus cases rise and federal aid set to expire

The news might not all be negative next week, however.

Manufacturers — auto makers in particular — have shown more resilience than the service side of the economy. The closely followed ISM manufacturing survey could show improvement for the third straight month.

The housing industry has also snapped back faster than expected amid a surge in home sales. Prospective buyers with secure jobs are taking advantage of record-low interest rates to buy new homes, a trend that may have been fueled by people fleeing the closed spaces of cities with a high number of coronavirus cases.

Even that potential bit of good news, however, has been overshadowed by the broader damage to the economy from the latest spike in coronavirus cases in many American states.

A full recovery can’t take root and blossom, economists say, until the disease is brought under control.

See: Pandemic will continue for some time, experts tell Congress as U.S. case tally nears 4.5 million

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LGI Homes: Don’t Get Blindsided By The Positive Sentiment And Miss An Important Risk (NASDAQ:LGIH)

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Since the March lows, LGI’s (LGIH) share price has more than doubled, returning to pre-corona price levels, despite growing concerns about the economy in general and their niche in specific. This was probably fueled by optimism over the recent positive headlines of a surge in new home sales and builder sentiment.

However, we think there are serious threats to LGI’s future growth, threats that are mostly overlooked by investors. We first think that the growth and performance of the company so far have been much due to major tailwinds. Secondly, we think their value chain will now be tested for the first time, with big question marks on its sustainability.

We boiled it down to three main points:

  1. Reliance on the USDA program and it’s growth.
  2. General industry undersupply that might change now.
  3. The value chain and business model wasn’t really tested in 2008 but will be now.

Spoiler: the stock is overpriced.

Short background

LGI Homes is a quite well-known homebuilder, so not much intro is needed. For those who are less familiar with the company’s unique value chain, there are great articles about the company, with the best being a profile piece from 2014 and their win of “Builder of The Year 2016”.

There is one important piece of the intro: The company started in Texas. They have expanded since, but still, it plays a major role in the company’s portfolio. The importance of this will be elaborated later.

Source: company presentations

1. Reliance on the USDA program

The company’s value proposition relies heavily on offering its customers an option to buy with little or no down payment with mortgages backed by the FHA, USDA, or VA. These backed loans have increased dramatically over the years, with the USDA loans in particular.

The program was created in 1991 as a way to support growth in homeownership in “rural areas” (the definition is wider than you think). There are conditions to be eligible for a USDA-backed loan, (for example, the borrower’s income can’t exceed 115% of the median county income, and the loans are restricted to areas with lower population density) but still, the qualification levels are very high, in most of the growing towns in the country. The loans are made by private investors, sold to third-party (Ginnie Mae), and insured by the government.

The program took a different turn in the GFC, drastically expanding by attracting buyers with the option of the no-down-payment terms. Since 2008, the funding has grown from $6.2B in 2009 to $12B in 2010, then another increase to $24B in 2011 where it stayed to this day. Many homebuilders, including LGI, have gained greatly from these programs.

This is mostly overlooked in the analysis of the company, but this program and its growth played a major role in LGI’s growth. We view this as a major issue when evaluating the company and its future growth. A change in policy and reduction of the plan could have a very negative impact on the company. There has been some criticism of the program, so we think it is a viable option. Having said that, given the current environment, it is less likely in the near term but certainly an issue for the long term.

2. Under-Supply and GFC rebound

The company had tremendous tailwind in the form of a strong undersupply in this market since the GFC and also the general economy rebound, as seen in the low level of new housing unit starts, a decline of existing home sales and a return of prices to pre-crisis levels:

Source: DQYDJ

These two factors combined raise a question regarding the viability of the speculative building in an oversupply environment. In 2008, there was an increase in existing home sales, but it was offset by the major increase in the USDA funding, so the viability wasn’t tested. So far in this crisis, the low-interest rates combined with the decade-long under-building of houses have yet to test the company. We do think that a scenario where the USDA funding does not increase or even decreases, combined with an increase in the supply of existing homes, might create a problem for LGI’s demand. And in speculative building, where you have a lot of move-in ready homes at all times, a big drop in demand hurts the margins very fast and in severe conditions (mainly duration) might even cause liquidity and debt servicing problems. We feel this is a point that is overlooked by many investors and should definitely be taken into consideration in valuation.

3. The business model wasn’t tested, but it might be now

The company boasts itself as being profitable even during the GFC. They were, but it’s not only because they are a good company with great management, but the location also played a big role. At the time they were still a very small company that had operations in Texas in areas that weren’t hurt much.

Source: Real Estate Center at Texas A&M University

Not only was it not hurt, but the company also had many opportunities, as said by the company’s president Eric Lipar in an interview in 2009:

Lipar says his company is gearing up for what he anticipates will be “lots of opportunities” to pick up distressed property taken over by banks “for 20, 30, 50 cents on the dollar.” The builder will open two new communities this year, and neither Lipar nor Snider seems worried that the housing recession could linger for a couple more years. “Apartment rent and occupancy [rates] are on the rise,” says Snider. “So we believe the downturn is positive for our business.”

And it’s not that LGI was unique in their profitability in Texas in the GFC, even DR Horton (DHI), that even then was one of the largest homebuilders in the country, was profitable in Texas (South Central, and there only…):

Source: DR Horton annual report 2009

This time, it seems like the coronavirus crisis might lead to a serious test for LGI’s model. And by the model, we mainly focus on their reliance on 100% spec houses, a method that many builders relied on before the crisis and since abandoned (only as an addition to existing projects and in small numbers).

There seems to be a “perfect storm” in Texas – an abundance of the service-sector, the oil industry, and the airline industry, all massively hurt, some possibly for a very long time. There is almost a consensus that Texas will not go unscathed again, and combined with the expansion to many more markets, it seems that LGI’s model will be put to a serious test for the first time. There might be a reason most homebuilders stay away from spec building.

The counter – there are new tailwinds:

Having said that, we think there is a new potential tailwind that might provide offset to the general economic projections and the specific questions regarding the past tailwinds.

These points are discussed intensively in the news so there is no need to elaborate but there are two trends that we think could provide a tailwind for the industry – de-urbanization and work-from-home. The combination might create serious demand for LGI communities.

It seems that during the pandemic, mainly in lock-downs, many people started rethinking a move to the suburbs. Real estate agents across the country are reporting a surge in interest for suburban homes, with people focused on large back yards. This has been seen very strongly in Connecticut and across the tri-state area in general.

Combined with the move towards work-from-home, the trade-off of moving further away from the center to the suburbs is changing. It seems this change is permanent, with some surveys showing as much as 67% of companies having long-term or permanent plans for remote work. This confidence allows workers that have moved to a remote model to find a house in the suburbs without making sacrifices with long commute times.

This is already felt by the company, as evident by the company’s comments in the Q1 press release:

Despite the challenging environment we encountered at the end of the first quarter, our business was stronger in April than we had originally expected and we are seeing positive momentum in recent sales trends that leads us to believe the impact from the COVID-19 pandemic may be less severe than we had originally expected. We are building, selling and closing homes across the nation every day and our customers are telling us that they are more ready than ever to move out of densely populated living situations and into homes that offer more space and privacy. As a result, our outlook for the coming months is tempered, but positive.

Also, the record low mortgage rates will boost demand, at least in the short term, which shouldn’t be diminished, it is important in helping the company get through the crisis.

Source: Freddie Mac Mortgage Market Survey

How this adds up in the numbers

First, gross margin – there are major differences in the margins between regions, so as the company expands from Texas (the best performer), the margins keep decreasing:

Source: LGI 10-k

To off-set that decrease, the company has managed to decrease SG&A/Rev so that the operating margin has even improved:

Source: LGI 10-k

Based on this, we think it should be conservatively assumed that in the future the gross margin would continue to decrease and that the operating margin will also decrease but not by much, around 11.5%

Given that one of the risks we outlined happens, and the demand-supply equation changes (the big surge in top-20 builders entering the field won’t help), we think it should be assumed that the community growth rate will be similar to their slowest years, around 12%. Also, prices will decrease for two years at least.

We also think the monthly absorption rate might decrease, from 6.7 now to more historical levels, when the market wasn’t in such a run, to around 6.

Combining all of this, by 2025 the community count should be around 203, with a monthly absorption rate of 6, which means around 15,000 closings.

Source: LGI 10-k and own assessments

We feel this is a good scenario, far from the worst case, as it does no include a full downturn. Based on a P/E ratio of 10, the company should be worth around 2.6B. We use a 10% discount ratio for our investment, leading to a PV of 1.6B, 43% under the price on 7/27/2020 (=$64). Adding a 20% margin of safety leads us to a price of $51.

Connection the dots (and conclusion):

There are reasons for optimism, from the positive builder sentiment to the recent surge in applications fueled by record-low mortgage rates that look like they might stay for a long time. There are also new tailwinds for the company that might offset the general economic negative outlook and the specific major problems in Texas. Also, the company has moved fast in the crisis and management is very optimistic (well explained here).

Having said all that, as mentioned, there are big risks that are mostly overlooked, both as a massive headwind and also as a specific stress test to the company’s basic model. Given the level of debt, the stakes are high for such a test. Maybe there is a reason why all the other companies stay away from this level of speculative building.

At a certain price, more around $50, we think the risk-reward equation is interesting since it includes a mediocre future that does take into account much of the risks we think are relevant. But now, at $113, we think the downside potential is very large and any deviation from the highly optimistic view this price represents might lead to a big drop in the price.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Waiting for the right price.

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Redfin CEO: Vacation real-estate markets are ‘toast’ because of the pandemic as Airbnb owners rush to offload their homes

The Seattle-based brokerage said Thursday that its RedfinNow segment, which provides instant offers to home sellers to purchase their properties, would resume home-buying activities. In doing so, Redfin joins fellow iBuyers Opendoor and Offerpad in re-entering the housing market. Zillow

also said Thursday that it would slowly relaunch its iBuying arm, Zillow Offers, in the coming weeks.

So-called iBuyers represent a small but growing share of the overall real-estate market. Nearly 7% of homes sold in Raleigh in the third quarter of 2019 were bought by iBuyers, according to a December report from Redfin, more than any other market nationwide.

Despite the coronavirus outbreak causing a downturn in home sales and listing activity through March and April, Redfin managed to beat expectations with its first quarter earnings as the company posted a net loss of $60 million. A year ago, Redfin had reported a larger net loss of $67 million, for comparison.

Read more: Mortgage rates rise from record lows — and signs are emerging that Americans are preparing to re-enter the home-buying market

The company’s CEO, Glenn Kelman, has said that the company’s tech offerings — including virtual home tours and open houses — will help it weather the pandemic. But while signs are starting to emerge that Americans may begin to re-enter the housing market, the speed of the recovery is far from certain. Fannie Mae

reported that consumer confidence in housing had fallen to the lowest level since November 2011.

MarketWatch spoke with Kelman ahead of Redfin’s earnings release to discuss how the pandemic has affected the U.S. housing market and what will change about iBuying in the wake of COVID-19.

MarketWatch: Redfin has announced that the company’s iBuying division, RedfinNow, will resume operations following the coronavirus-related pause. What drove that decision?

Glenn Kelman: The reason we’re reopening it is because we think it’s a reasonably good time to own a house. Inventory is down 25% year-over-year, and home-buying demand is almost back to pre-pandemic levels. So we’re willing to take a risk again. I think we’ll lower the amount we’re willing to pay for a house, just to give ourselves more margin for error.

It was a harrowing couple of months. We had to ensure that the homes we had bought before the pandemic could still be sold once the pandemic had started, and you just can’t forget that easily. So instead, you just lower your offers a little bit, and that gives you some leeway.

MW: Is RedfinNow introducing any new procedures because of the coronavirus pandemic?

Kelman: I feel like what’s changed about our approach in iBuying specifically is just more about margin. You always knew that you had to have a margin for error — that there was a possibility of a downturn and that every offer you made had to account for that. But it’s another thing to actually go through that. So I think there will be more margin for error, but also less tolerance for a real project. If it’s a piece of work and it’s going to take six months to get it back on the market, you just can’t wait that long to figure out if you offered the right price to the homeowner. The market could change.

If you took a basketball shot, and six months later somebody told you whether it went into the hoop, you’d never get to be a better basketball player, right? So I think we’re just being more disciplined about the kinds of homes we buy. If you make a mistake on five houses, you should not buy 5,000.

MW: Do you think that the pandemic could make iBuying more popular, since it eliminates a lot of the in-person interactions the home-buying process typically requires?

Kelman: That wouldn’t be my guess. The homeowner who might be more anxious to sell their home, we’re going to find out whether more of them take offers in the next few weeks. But the other part you have to consider is the money man. The people who are providing capital for iBuyers may have a different appetite for risk on the other side of this. If iBuyers all come into the market at the exact same margin they were at two or three months ago, I think our acceptance rates are going to be really high.

But my guess is that they’re going to price the risk into their offers. And I don’t know how consumers are going to react. When we make offers, if we give ourselves just a little more room for all the risks that we’re taking, will people still accept it?

‘It used to be that working class folks could reasonably aspire to buy a house. And now I think buying a house has really become a privilege.’

— Glenn Kelman, CEO of Redfin

MW: You mentioned earlier that there’s been a resurgence in home-buying demand — what is driving that?

Kelman: Probably the bifurcation of the American dream. It used to be that working-class folks could reasonably aspire to buy a house. And now I think buying a house has really become a privilege, and the privileged class is doing better in this pandemic than the people who work in restaurants and perform other in-person services. So unemployment is going to be bad for one part of America; for another part, it isn’t as bad. And so that’s the part that’s buying a house.

And maybe the other dimension of this is just that there’s been an affordability crisis for so long. There’s structural reasons that there aren’t enough homes for enough homes in America. There is just a large number of people who have been trying to buy a house for two, three, four years, especially in really expensive markets. And if this pandemic is an opportunity to do that, with less competition, you’re going to take it.

Also see: Home prices could fall by as much as 4% because of the coronavirus pandemic, Zillow says

MW: What’s your take on the state of secondary markets and vacation markets right now?

Kelman: Toast. Those are going to be in tough shape. There’s a whole economy that was built around the liquidity there that Airbnb provided. You could get pretty deep into debt and still have somebody pay your mortgage every month because Airbnb and other travel websites were so good at finding someone to rent it out. And I don’t think many of those folks have the reserves that Marriott

or that Hilton


Investors who own Airbnb properties are looking for immediate liquidity. At some level it’s Redfin, Zillow

and Opendoor picking up where Airbnb left off. If they can’t get cash flow through one website, they’ve got to sell it through the other.

‘There’s a whole economy that was built around the liquidity there that Airbnb provided.’

— Glenn Kelman

MW: Some have suggested that the coronavirus pandemic could lead to a migration out of major cities, especially ones like New York that were hit hard by the outbreak. What’s your take on this?

Kelman: It’s on like Donkey Kong. There’s going to be a major move. That was already underway just because of the affordability crisis. People are leaving New York for Philadelphia and are leaving San Francisco for Sacramento and even Phoenix. Seattle was starting to lose people to Tacoma, which is just down the street.

I think some of it is about consumer wariness where we’re living in close quarters with other people. But most of it’s about employer flexibility. Employers that were really stuck on whether to let people work from home have gotten completely unstuck. And if you can work for Goldman Sachs

, but not in New York, if you can work for Amazon

, but not in Seattle, well, why would you pay the premium?

(This interview was edited for style and space.)

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Coronavirus was devastating Europe’s nursing homes well before the U.S. Here are the lessons they learned

In late March as the coronavirus pandemic spread to the U.S., news of a wave of deaths in Spanish nursing homes caught the attention of David Grabowski, a professor of health policy at Harvard Medical School.

Tweeting a March 25 story about a probe into elderly coronavirus victims found dead in their beds by the Spanish army, he said it was at that point he realized the U.S. could be headed for trouble with its own care home facilities. “We should have learned this lesson from Europe and we didn’t,” Grabowski told MarketWatch in an interview.

Stories of nursing home deaths in virus-battered Italy had also begun trickling out in March, and would soon be followed by similar tragedies in Spain, France, the U.K. and the U.S. The Kaiser Family Foundation estimates that 16,556 American deaths since April 29 have been in long-term care facilities, including residents and staff. A New York Times analysis concluded those deaths were a fifth of the U.S. total.

Europe paints a grim path forward. The World Health Organization estimates that over half of all Covid-19 deaths in the European Union have occurred in those care homes which can also spread to the community. Europe’s total death toll stood at 143,898 as of Tuesday, according to the European Centre for Disease Prevention and Control.

Authorities in Milan are probing one of the largest care homes — Pio Albergo Trivulzio — where 190 residents out of 1,000 are believed to have died of the illness. Spanish authorities are also investigating deaths, such as at Madrid’s Monte Hermoso care home, where 48 people reportedly died.

Last Wednesday, the U.K. coronavirus death toll jumped to 26,097 after the government started counting deaths in care homes and the wider community for the first time. It had previously faced criticism over the fact that the daily number of deaths from COVID-19 provided by Britain’s Department of Health had only included hospital fatalities. The country now has Europe’s highest death toll, at 29,427 as of Tuesday.

Read: The crisis raging inside America’s nursing homes

“This pandemic has shone a spotlight on the overlooked and undervalued corners of our society. Across the European region, long-term care has often been notoriously neglected,” said Dr. Hans Henri P. Kluge, WHO Regional Director for Europe, in a statement on April 23, as he urged more protective gear, training and medical supplies to prepare for another wave or pandemic.

“We were not ready. I must absolutely recognize that,” Professor Raffaele Antonelli Incalzi, president of the Italian Society of Gerontology and Geriatrics, told MarketWatch in a recent interview.

Among the first errors made in Italy were a lag in imposing strict measures, such as limits on visitations, and lack of testing as not all symptoms were the same, he said.

Read: Senior centers try to keep residents happy and protect them from Covid-19

“We were convinced that fever and cough were the presenting symptoms and actually they are in the vast proportion, but some complained of headache, fatigue, diarrhea and so on. It’s absolutely necessary to have a high degree of suspicion,” Incalzi said.

They also learned that using nursing homes as convalescent facilities for people discharged from hospitals and recuperating from the virus was a costly mistake. Kluge has also urged the isolation of cases via separate wards or spaces for residents with the virus.

“This was a terrible error in Northern Italy and Lombardy … many of these people were not completely healed, they were still infected with COVID and that accounted for the spreading of the disease in a very frail population,” he said, adding that it’s “mandatory to avoid such a strategy.”

Yet, that is exactly what is happening in some U.S. states. In late March, New York authorities started requiring nursing homes to accept patients infected with the virus, against a recommendation by some experts, while similar orders came from California and New Jersey.

Kaiser data shows New York has so far seen the highest number of fatalities from those institutions at 3,653 and Governor Andrew Cuomo has said keeping those places free of the disease is “virtually impossible.”

Read: Senior centers try to keep residents happy and protect them from Covid-19

Incalzi said they have also learned that the virus may have spread more rapidly in centers without specialists in elderly care, or with just one general practitioner in charge. “When a nursing home is directly followed by a geriatrician, there’s a lesser risk of spreading infections,” he said. “Many elderly people were in good health before dying from COVID,” he said.

Jesús Cubero, the president of the Spanish association of senior care homes, Aeste, complained that a lack of protective equipment was a problem in the early days. He added that of Spain’s 5,400 or so elder care facilities — 75% private and 25% public run — the larger ones often fared better.

“The biggest problems were in small companies and those run by religious structures, which were less professional as they had lots of volunteers, which is normally OK,” he told MarketWatch. “But with big companies you can manage with workers going from one place to another. If you have a lot of workers you can manage better.”

One complaint of Spanish geriatric doctors was that few patients 80 or older were admitted to ICU compared with younger patients and they have asked the government to try to equip care homes better to confront the next wave of the virus.

In Italy, one big step toward trying to prepare for the next outbreak has been taken at the behest of Incalzi and his colleagues via the GeroCovid Observational Study, an electronic registry of 60 nursing homes in Italy and their affected patients.

“From this, you will know which practices really matter and need to be enforced to decrease the risk,” of coronavirus among the elderly, Dr. Susanna Del Signore, CEO and founder of BlueCompanion that designed the registry, told MarketWatch. “All this data will help us see how older people can influence the outcome.”

She said the study, which began April 25, should be ready by November, with lessons learned perhaps just in time for the second wave of the pandemic that some have already warned is coming.

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A day after Elon Musk denounced coronavirus lockdowns as infringements of freedom, research shows Britons are too scared to leave their homes anyway

A campaign to keep Britons locked down and protected from the coronavirus may have proved too successful, according to new research, with many now scared to leave their homes.

A leading Cambridge University statistician warned that the government’s stay-at-home message had caused many people to grow “particularly anxious” about going out.

“Many people are definitely overanxious about their chance of both getting the virus and the harm they might come to if they do get it,” Cambridge’s David Spiegelhalter told the BBC.

Fully one-third (33%) of Britons said they would feel uncomfortable meeting friends and family outside their household, according to polling released by research firm Ipsos Mori on Friday. Just under two-thirds (61%) said they would feel uncomfortable using public transport or going to bars and restaurants. The data also showed 67% saying they would feel uncomfortable attending large public gatherings, such as sports or music events, compared with how they felt before the pandemic.

Keiran Pedley, research director at Ipsos Mori, said: “Clear majorities of Britons are nervous about using public transport again or going to bars, restaurants or live music and sporting events.

“These numbers suggest that it will take some time for parts of the British economy to return to any semblance of normality, even after lockdown has ended.”

It’s a very different story in parts of America as protesters in Michigan stormed the state capitol demanding an end to lockdown, and Tesla’s

Elon Musk told investors on Thursday that stay-at-home orders were “forcibly imprisoning people in their homes against all constitutional rights.”

Read:Elon Musk says coronavirus shelter-in-place order is ‘fascist’ and ‘breaking people’s freedoms’

Britons, meanwhile, are not only scared for themselves but are so fearful neighbors might spread the virus more widely that 200,000 of them have called the police to tell tales about fellow citizens breaking the rules.

According to a report in the Times, police investigating illegal house parties and public loitering have issued 9,000 lockdown fines in England and Wales.

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